Make it a Home Run!
A message from Sheila Young
Our team took a break this spring to enjoy some University of Tennessee baseball. As third-party administrators, though, it did not take long before the conversation turned back to tax season and how we could make it smoother for our clients next year. Much like baseball, there is no such thing as a perfect season. Every year brings a few tough innings. But with good planning, you can put yourself in a much better position when year-end arrives.
For many business owners, year-end compliance testing is one of those topics that immediately sounds complicated. The name alone can make it feel like another stack of paperwork to deal with. In reality, these tests are simply the IRS's way of making sure your company's 401(k) plan is fair. They are designed to confirm that business owners and highly compensated employees are not receiving a disproportionate share of the plan's tax benefits while other employees are left behind.
As your Third-Party Administrator (TPA), we handle all the heavy math. But knowing how the process works can help you avoid stressful year-end surprises and unexpected costs. It’s time to start planning.
The government evaluates your retirement plan using three main report cards: The ADP Test: Checks if your top earners are saving a much higher percentage of their paycheck than your hourly or salaried staff. The ACP Test: Looks at company matching dollars to ensure your top earners aren't getting a disproportionate slice of the pie. The Top-Heavy Test: Asks a simple question: Do the business owners and key executives hold more than 60% of all the money in the plan? If yes, the plan is labeled "top-heavy."
To run these tests, we split your team into two buckets based on their income and ownership stakes. The rules shift slightly every year based on inflation adjustments, but here is how the groups generally look:
The VIPs (Highly Compensated / Key Employees): Anyone who owns more than 5% of the company, or earns above the IRS high-earner threshold (which changes annually). Their saving habits are what get capped if the rest of the team isn’t participating.
The Rest of the Team (Non-Highly Compensated): Everyone else on your payroll. Their average savings rate actually sets the speed limit for how much your VIPs are allowed to save.
Timing is everything. Missing these windows can lead to IRS penalties or extra taxes.
January: Time to pull your payroll reports. The sooner we get your data, the smoother the process.
March 15: The golden deadline. If your plan failed a test, any necessary refunds must be paid out to high earners by this date to avoid a 10% IRS tax penalty.
5500 Filing Deadlines: Seven Months after the plan year end – For example, Plan Years Ending December 31 – form 5500 deadline is July 31, January 31 Year End – due date is August 31…….
December 31: The absolute final deadline to fix any testing failures through employer contributions or refunds.
Getting through testing season doesn't have to be painful. Just follow these four simple steps:
1. Gather the Census: Pull a report of everyone who worked for you this year. We need total pay, hours worked, and hire/fire dates—even for people who didn't contribute to the 401(k).
2. Keep it in the Family: Let us know if any employees are related to the business owners (spouses, kids, or parents). The IRS counts their ownership together.
3. Send it over: Upload your data to our portal early so we can start crunching the numbers.
4.Review the Results: We will walk you through the final report. If your plan struggled to pass, we can discuss game plans—like switching to a Safe Harbor plan—to skip these tests entirely next year.
Until then, enjoy the slower pace of summer. Catch a ballgame, spend time with family, and don't feel too guilty about the peanuts and Cracker Jack.